Transcript MicroEcon – CH 20 Lecture – Consumer Choice

Chapter 20
Consumer Choice
Utility Theory


Utility

The want-satisfying power of a good or service

Basically, it’s another word for satisfaction

Purely subjective- you can’t measure my utility
Utility Analysis


The analysis of consumer decision making
based on utility maximization
Utils

Unit used when talking about utility
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Utility

Total utility versus marginal utility



Total utility is total satisfaction
from consumption.
Marginal utility is the additional
satisfaction from consuming an
additional unit.
Law of diminishing marginal utility

Marginal utility ultimately declines as a
person consumes more and more of a
good or service.
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Utility Theory (cont'd)

Marginal (additional, incremental) Utility

The change in total utility due to a one-unit
change in the quantity of a good or service
consumed
mmm…
Donuts
No
more
Donuts!
Maybe
one more
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Figure 20-1 Total and Marginal Utility
of Downloading and Listening to Digital Music Albums
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Figure 20-1 Total and Marginal Utility
of Downloading and Listening to Digital Music Albums
•As each album is listened
to, enjoyment increases
until this point
Total utility is
maximized...
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Figure 20-1 Total and Marginal Utility
of Downloading and Listening to Digital Music Albums
•This graph shows
the decline of
marginal utility
…where marginal
utility equals zero.
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Graphical Analysis (cont'd)

Observations


Marginal utility falls as more is
consumed.
Marginal utility equals zero when total
utility is at its maximum.

You couldn’t be any happier!
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Newspaper Vending Machines versus Candy Vending Machines
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
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How many people take more than
one paper from the vending machine?
Why not dispense candy the
same way?
The answer is found in the concept of
diminishing marginal utility.
The utility for candy is
(in most cases)
greater than it is for
a newspaper
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Optimizing Consumption Choices

Consumer Optimum

A choice of a set of goods and services that
maximizes the level of satisfaction for each
consumer, subject to limited income
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If you spend your income wisely you
can enjoy music and sandwiches!!!
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How a Price Change Affects Consumer Optimum

The Substitution Effect


The tendency of people to substitute
cheaper commodities for more
expensive commodities
The Principle of Substitution

Consumers and producers shift away
from goods and resources that become
priced relatively higher in favor of
goods and resources that are now
priced relatively lower.
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How a Price Change Affects Consumer Optimum

The substitution effect of a
price change

A person will substitute among goods
by buying less of a good when its
price increases.
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How a Price Change Affects Consumer Optimum

Purchasing Power


The value of money
for buying goods
and services
What happens to
your purchasing
power at Wal-Mart?
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How a Price Change Affects Consumer Optimum (cont'd)

Real-Income Effect


The change in people’s purchasing
power that occurs when, other things
being constant, the price of one good
that they purchase changes
When that price goes up (down),
real income, or purchasing power,
falls (increases). (Wal-Mart)
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How a Price Change Affects Consumer Optimum

Question???


What do you think: Which would
usually have more of an impact on
your purchases—the substitution effect
or the real-income effect?
Discuss this with your neighbor! NOW!!!
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The Demand Curve Revisited

Question


How is the demand curve derived?
Answer

By assuming income, tastes,
expectations, and the price of related
goods are not changing as the price of
the good changes
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The Demand Curve
Revisited (cont'd)

Marginal utility, total utility, and the
diamond-water paradox


Water is essential to life but cheap.
Diamonds are not essential to life
but expensive.
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End of
Chapter 20